Winter2014 Veterinary Matters

Guiding your practice to lifelong prosperity

Events London Vet Show20-21 November 2014Olympia LondonCome and visit us at stand I 84

We will be speaking in the BusinessTheatre, at 14.45 - 15.45 on Thursday 20 Novemberabout 'Cutting edge tax planning'.

SPVS/VPMA Congress23-24 January 2015Celtic ManorCome and visit us at stand 29

incorporation advanced planning for the cutting edge practice

STOP PRESS!Not a company? Read on...Already a company? Still relevant,read on...

Incorporation- Advanced PlanningThe tax landscape has beenchanging continually over thepast few years. More and moreveterinary practices haveincorporated and are nowrunning their practicesthrough limited companies.Does that make it right forevery practice? No. Is it rightfor your practice? Possibly.

This release considers more advanced areas ofincorporation. Back in our Autumn 2013Veterinary matters (http://goo.gl/s0gzoZ0) wecovered introductory details on incorporationincluding tax savings and basic “what to thinkabout”.

It is critical to understand the triggers that helpdetermine whether trading as a company orhaving a company within your structure isbeneficial for you. Your personal and practice’scircumstances change over time and if these arenot regularly reviewed against these triggerpoints, it would be worthwhile doing so.

Let’s dispel one myth early on. There is no “onesize fits all” approach to determining whichpractices would be best trading through acompany.

Space dictates that what follows is not anexhaustive list, although it helps provide a guideas to the common key triggers forincorporating companies.

These are set out in the following sections:� Profit� Property and debt� Purchasing a practice� Limited liability

Profit

In a company the owners are taxed on what theyextract as remuneration from the company,whether by salary, dividends, rent, interest, etcand the tax on these depends on the levelsextracted. It is critical that a structuredremuneration plan is put in place to ensure thatthe interaction of a company’s and owner’s taxposition is as efficient as possible. This shouldinclude a proper audit trail of transactions, forexample, but not limited to, dividends beingphysically drawn in cash and properly documented,to minimise the risk of H M Revenue andCustoms (HMRC) questioning their validity.This is often overlooked.

For company owners that retain a significantdegree of profits in the company, for examplefor reinvestment in the practice, the savingsfrom incorporating can be significant.

By way of illustration, consider the followingexample:

� A company owned 50:50 by two individuals;

� Company has profit after tax of £500,000per annum which is fully available in cash forextraction by the owners (in practice thismay not be the case. In particular, youshould be aware that dividends paid by acompany are not permitted by law toexceed distributable reserves typicallyhistoric profits less dividends to date);

� For simplicity, assume that the owners haveno other income and make no pensioncontributions/other tax deductible items.

In recent years, standalone companies with profitsabove £300,000 have paid corporation tax above20%, with 20% having applied below this level.From 1 April 2015, all companies will paycorporation tax at 20%, irrespective of theirlevel of profits.

The “normal” per annum savings for all ownersand the company combined, compared totrading as a partnership (on which the partnerswould be taxed on their respective taxableprofit shares, irrespective of what they draw),are estimated below under different scenarios.This assumes that the directors’ loan accountshave been fully drawn down in the company(prior to that greater tax savings would bepossible in this example) and remuneration isextracted by way of salary at the employer’sNational Insurance threshold. The balance is inthe form of dividends (using the 2014/15 taxrates):

Scenario 1... each owner extracts £125,000:overall savings of approximately £33,000 eachper annum.

Scenario 2... each owner extracts £75,000:overall savings of approximately £50,000 eachper annum.

The level and manner in which remuneration istaken can have a significant bearing on thequantum of the tax savings. In somecircumstances, remuneration can be at such alevel that it is marginal for a “full” incorporationto give rise to tax savings (if at all). In suchcases, it might still be beneficial to have acompany in your financial structure, for examplein a service company type arrangement, runningalongside an unincorporated business, e.g.partnership.

Property and debt

“We often get asked as towhethera property is best owned withina company or personally by thecompany’s owners. The answer is- it depends. ”

Owning property and associated debt in acompany can be highly tax efficient, with thecompany repaying the bank debt out of profitstaxed at 20% (or slightly higher as previouslynoted). This contrasts to an off balance sheetpersonal loan with personally owned property,where the cash used to repay the debt hasbeen taxed at the corporation tax rate in thecompany and then again at personal tax rateson extraction from the company to service the

personal debt.

Where a property is transferred into a company,there could also be a Capital Gains Tax charge.There could have been a Capital Gains Taxcharge payable by the partners if the value of theproperty at incorporation (being the marketvalue it is sold to the company for) was morethan the original cost incurred by the originalpartnership. Stamp Duty Land Tax might bepayable on the transfer depending on theownership proportions of the companycompared to the unincorporated practice. Itcan sometimes be possible to mitigate this, forexample, where the partnership (but not soletrade) and company ownership proportions arethe same.

Keeping property outside of a company alsoprovides flexibility for the future. For example,if the property owners wish to retain thempost-retirement and then rent them to thefuture practice owners as an additional incomestream. This can still often be achieved bytransferring property ownership from acompany to individuals prior to retirement.However, this can give rise to a corporation taxcharge in the company if the property has risenin value. In addition, if the owners do not havea directors’/shareholders’ loan account at thattime to cover the property cost, they mightneed to raise the finance to buy the propertyfrom the company by way of a loan, unless theyraise funds from the sale of the business aroundthe same time.

Care needs to be given to the level of any rentpayable by a company to the property ownerswhere the property is not owned by thecompany. Banks often insist on full market rentsbeing paid. Having an adviser on board that canwork closely with your bank to accept greaterflexibility as regards rent and other matters canbe invaluable.

Where full market rent is paid, this increasesthe Capital Gains Tax exposure for the propertyowners upon the potential future sale of theproperty up to 28% (assuming a higher rate taxpayer) for the period where such a rent is paid.Where there is no rent, that period would besubject to 10% Capital Gains Tax with thebenefit of Entrepreneurs’ Relief (assuming thequalifying conditions are met). The sale of theproperty would need to be as part of thewithdrawal from the business. Whilst this doesnot necessarily need to be at the same time asthe share sale, a plan to sell the property wouldneed to be in place at that point. A rentbetween £nil and full market rent would give aCapital Gains Tax exposure of above 10%, butless than 28%.

SDLT also needs to be considered where rentis paid, whether or not there is a lease.Payment of rent creates a deemed lease. SDLTis payable at 1% where the net present value ofthe rent payments over the term of a leaseexceeds £150,000 (where there is no lease thisstill needs to be considered on a cumulativerent payable basis). Where there are a numberof practice properties, HMRC can deem theseto be linked for the purposes of this calculationwhich can bring forward any SDLT that mightbe payable to an earlier date. Liaising with your

accountant closely on the rent position canpotentially help to mitigate this. SDLT is acomplex area and there are many factors toconsider and space dictates not all of these canbe covered here.

Property used in the trade that is kept outsideof the company will normally qualify for 50%Business Property Relief, which means that inthe event of death, the remaining 50% of theproperty value will form part of the individual’sestate for Inheritance Tax purposes. By contrast,property used in the trade that is owned by thecompany will form part of the share value.Shares normally qualify for 100% BusinessProperty Relief so long as the business has beencarried on by the shareholder for at least twoyears (whether pre or post incorporation).”

Purchasing a practice

If the goodwill of a business is purchased by acompany, then corporation tax relief may beavailable in the form of amortisation. Thisapplies where the business is purchased from anunconnected third party or where the businesscommenced from April 2002 onwards and isbeing purchased from a connected party.

Example:

Purchase of goodwill by company: £800,000

Amortisation period: 10 years

Therefore profit deduction: £80,000 p.a.

Tax saving, say 20% rate applies: £16,000 p.a.

This can be highly significant and is not availablefor unincorporated businesses, e.g. sole traders,partnerships, LLPs, that buy the goodwill ofanother business.

Limited liabilityYour practice’s professional indemnity insuranceprovides a degree of protection againstunforeseen claims against the practice. Tradingthrough a limited company brings the additionalbenefit of the shareholders having personalliability limited to the amount they paid for theshares. It should be recognised that anydirectors’ loan accounts are still exposed, i.e. arenot covered by the limited liability.

WATCHOUT

Timing and future ownership change

The timing of an incorporation is absolutelycritical, as are future retirements or a sale of thepractice. Entrepreneurs’ Relief (which essentiallyresults in a 10% Capital Gains Tax charge on thesale of shares) needs to be considered carefullyto ensure that the qualifying conditions are met.One key point is that Entrepreneurs’ Relief is notavailable if an individual sells their shares in thecompany within one year of them being held orsince the company started to trade. Oftenincorporations see the share value of a companybuild up quickly following incorporation. Profits

for the capital treatment to be permissible. Ifthis is not available, it might be that theremaining owners have to take out personalloans in order to buy the shares from theretiring owner. In order to repay these loans,they are likely to need to extract additionalremuneration from the company, which willresult in their directors’ loan accounts beingdepleted more quickly and, ultimately, additionalpersonal tax being paid at an earlier time.

There is generally more to consider where theowners wish to sell the practice and it tradesthrough a company. In particular - whether theshares or the trade/assets will be sold. The levelof potential purchaser due diligence may begreater where a company is being purchased.Careful planning is required in order to ensurethe best tax position on a sale and to keepcosts manageable. Poor advice can lead todissatisfaction and escalating costs.

FinanceBanks and other finance providers need to bebrought on board at an early stage, in particularto ensure that, where possible, there is no re-broking of the terms of any existing finance.One option is to leave the bank debt outside ofthe company, together with the property, whichnormally avoids the bank debt being re-broked,although this needs to be considered on a caseby case basis with the bank.

Banks need to be fully briefed on the structure

can be significantly above the level of dividendstaken (where a large part of “remuneration”may be in the form of directors’ loan accountdraws to mitigate higher rate tax). Directors’loan account draws do not affect share value,whilst dividends reduce it. If the timing of aretirement / sale is not considered carefully, thiscould result in Entrepreneurs’ Relief not beingavailable and significant extra tax being payable.

In a partnership / LLP, a practice might seek totake out a bank loan in the practice name tofinance the retirement of one of the owners. Ina company situation, this is permissible where theloan is taken out in the company to finance therepayment of a director’s loan account uponretirement. However if the loan is to financethe buy out of an owner’s shares (known as aPurchase of Own Shares), the company musthave been trading for at least five years. Therealso needs to be sufficient distributable reservesto cover the share value, if the generallypreferred capital treatment is to be available.

The capital treatment for Purchase of OwnShares enables the proceeds received by theretiring shareholder to be treated as capital andso benefit from 10% tax rate, assumingEntrepreneurs’ Relief is available. The alternativewould be for the proceeds to be taxed asincome in their hands, so would be potentiallysubject to higher rate tax of up to 30.56% (net)of the proceeds received. There are otherqualifying conditions that must be met in order

We often see practices that have been incorporated without due consideration to the practicalimplications of doing so. We consider some “old chestnuts” below.

Goodwill and share valuations

“One critical area in mostincorporations is the valueplaced on goodwill as it canimpact on the level of taxsavings achieved.”

HMRC have recently indicated that they arelooking more closely at veterinary goodwillvaluations. It is therefore more important thanever that the adviser you use to value yourpractice’s goodwill has a thorough understandingof the market place and in dealing with suchvaluations. HMRC Investigations can be costly andit is worthwhile considering a “Tax InvestigationService” that aims to cover the cost ofprofessional fees in the event of such HMRCInvestigations.

What might HMRC be concerned about?Generally HMRC will wish to make themselvescomfortable that the value placed on goodwillis not too high (in their eyes at least) - whichwould create artificially high directors’ loanaccounts, together with associated tax savings.For those that are incorporating, you will nodoubt wish to ensure that the value placed ongoodwill is not too low, in order to avoid losingout on an element of the potential tax savings.It’s a balancing act.

It is surprising how many practices fail to beadvised that a company structure will changeregarding how goodwill can be dealt with. Uponfuture ownership changes, e.g. internal succession,HMRC require that a commercial valuation isapplied to the company’s shares, including thegoodwill element. The freedom that is availablein an unincorporated setup as regards to howgoodwill can be valued (essentially the ownerscan choose the valuation subject to anypartnership/LLP agreement) is significantly reduced.

This is not to say that there is not scope to takeaccount of an incoming owner’s prior workingcontributions to the practice whilst they were anemployee when assessing a buy in /retirementprice, but that any adjustment to the valuationmust be assessed against the need for it to becommercial. If shares are sold at a belowcommercial value, this can lead to significant taxcharges for the incoming owner. It is essentialthat an experienced veterinary valuer is usedfor future ownership changes to avoid suchassociated pitfalls.

of the incorporation so that they are able toconsider their position Often we see thatbanks have not been instructed correctly andthis can lead to unnecessary angst and delays.Your adviser should help you avoid this.

Company owners often see a reduction in theirown taxable income in a companyenvironment (repayment of directors’ loanaccounts is not taxable income). This can leadto difficulties for some in raising personalfinance, e.g. for a home mortgage, unless thefinance provider has a complete understandingof the owner’s personal and businesscircumstances. We continue to see a disparityof approach by finance providers - some fullyunderstand the change in structure withincorporation, whilst others continue to take amore “tick box” approach in assessing financeapplications by individuals, which can causedifficulties for those that it affects. Again, youradviser can help by explaining the rationale forthe company structure to the financiers.

InsuranceIt is critical that all insurance policies arereviewed, both practice and personal, to ensurethat the terms of cover appropriately reflect thenew structure in place. This should include (butnot limited to) policies such as Permanent HealthInsurance, which can easily be overlooked.

Inheritance TaxDirectors’ loan accounts will form part of anindividual’s estate in the tragic event that theywere to die. It might be possible to insureagainst this risk and it is worthwhile consultingwith an insurance adviser.

VAT

back of previously reclaimed VAT if the VATregistration is transferred to the company. Inthis case, it might be better for the propertyowners to retain the VAT registration, opt totax the property and the company apply for anew one.

The future VAT position also needs to beconsidered. If the practice property has optedto tax and is owned outside of the company,then the property owners will need to beregistered for VAT and add rent to their VATinvoices to the company. If there is any residentialelement to the accommodation, this also needs tobe taken into account. The timing of the companyand private VAT returns should be thought about,to ensure there is ideally no adverse cash flowdisadvantage in terms of when VAT is paid overto HMRC on the rent and when it is reclaimed.

“VAT can be a complex areawhich most practice owners willneed guidance on.”

PAYEClose liaison with the preparer of the payrolland the solicitor dealing with the incorporationis essential.

HMRC needs to be informed of the PAYEposition, when a new PAYE scheme is setup,and when the old scheme is ceased. If thiscommunication does not happen, it can lead todemands by HMRC where they believe they havenot received PAYE/NI payments, when in factthey have been made, albeit under a differentPAYE scheme in the new company structure.

Your practice’s employees should review their taxcodes carefully following an incorporation. Wehave seen instances where HMRC “resets”individual employee’s tax codes to the basic taxcode, rather than accounting for benefits/personalpension contributions etc. This can lead toemployees under or over paying tax comparedto their historic position, which then needs to besettled up. This is obviously a sensitive issue andneeds to be handled promptly and proactively.

Shareholders’ Agreements andProtectionShareholders should take legal advice to ensurean appropriate shareholders agreement is put inplace, your accountant should be able to helpadvise you on the financial aspects of this.

Also, you should discuss shareholder protection

with your financial adviser to help cover thecost of buying another owner’s shares in theevent of their death.

Vehicles

Summary

The practice’s VAT position needs to be lookedat closely. Often it is simple enough to transferthe existing unincorporated VAT registration tothe new company and effectively to carry on asbefore. However, there can be pitfalls with thisapproach.

If the properties from which the practice tradesare owned by the practice, have not beenopted to tax and property capital costs havebeen £250,000 or more within the last 10years, then removing the property from thebalance sheet on incorporation may trigger theCapital Goods Scheme rules.

Potentially this may result in a significant claw

Incorporation can be complex and it mightseem that way without taking guidance froman adviser that understands that there is no

“one size fits all” approach and that eachpractice has its own particular circumstances.

Having a sound appreciation of both thecommercial and tax implications ofincorporating, including the potential (butavoidable!) pitfalls, will stand you in good stead.

Generally, unless a car has zero or extremelylow emissions, significant taxable benefits in kindwill result from a director having a “company”car and running it through the company.

The company car and fuel benefits are based onthe CO2 emissions of the vehicle, unless the carwas registered before 1 January 1998.

For Small Animal practices, where businessmileage tends to be lower, it can often be moretax efficient to keep cars outside of thecompany and own, insure and run them privately.

Please note that home to work and work tohome (where work in this case is taken to be afixed place of business) is private not businessmileage for cars (such mileage for vans is nottreated as private however).

Where business mileage is frequently higher, asis often the case with Large Animal and Equinework, the tax downside of running a carthrough a company can sometimes be moreacceptable when the wear, tear anddepreciation on the car is taken into account, i.e.the wear, tear and depreciation falls on thecompany as opposed to the individual.

More and more practice owners areconsidering running commercial vehicles (vans)rather than cars through a company as thetaxable benefits in kind are generally significantlylower than most cars. It is important, however,to ensure that certain criteria (see below) aremet in full for a vehicle to qualify as acommercial vehicle. It also depends on whatmakes sense practically, i.e. whether you arehappy to drive a commercial vehicle. A furtherplus point is that with a commercial vehicle, thepractice can reclaim VAT where charged, basedon the business use percentage of the vehicle.

A note of caution - many retailers class vehiclesas ‘commercial’ or ‘multi-purpose’ but as far asHMRC is concerned, they are still cars and aretherefore not quite all they seem at first.HMRC are very strict when it comes to whatvehicles are classified as vans. See HMRC’swebsite for further details: www.hmrc.gov.uk.

Hazlewoods is a

member of International.

Our Veterinary Team are happy to discuss matters arising from this newsletter, as well as any other matters relating to your business or personal financial affairs.

Our Veterinary Team are based at our Staverton Office:

Hazlewoods Veterinary TeamStaverton Court, Staverton, Cheltenham, GL51 0UX

Tel: 01242 680000 Fax: 01242 680857

www.hazlewoods.co.uk@Hazlewoods

This newsletter has been prepared as a guide to topics of current financial business interests. We strongly recommend you take professional advice before making decisions on matters discussed here. No responsibility for any loss to any person acting as a result of the material can be accepted by us.

Hazlewoods LLP is a Limited Liability Partnership registered in England and Wales with number OC311817.

Registered office: Staverton Court, Staverton, Cheltenham, Glos, GL51 0UX. A list of LLP partners is available for inspection at each office.

Hazlewoods LLP is registered to carry on audit work in the UK and Ireland and regulated for a rangeof investment business activities by the institute of Chartered Accountants in England & Wales.

The services we provide include:

Mark Harwoodt: 01242 680000

e: mark.harwood@hazlewoods.co.uk

Phil Swant: 01242 680000

e: phil.swan@hazlewoods.co.uk

Mark Beaneyt: 01242 680000

e: mark.beaney@hazlewoods.co.uk

� Accounting and bookkeeping� Management accounts� Business planning and practice reviews� Tax planning advice and complianceservices

� Goodwill and business valuations� Benchmarking and profitability advice� Advice on buying or selling a practice� Advice on incorporation

� Partnership changes� Payroll assistance� Financial planning� Sage software advice� And more!